Inflation’s Effects on the Economy

A rule of thumb on what can happen to future interest rates.

This is due to the probability of runaway inflation due to huge, ongoing government deficits.

In a 2003 report by the Federal Reserve, calculating the effects of government debt and its impact on long-term interest rates, done before the current deep recession and the efforts of the Obama Administration:

The report concluded: "A percentage point increase in the projected deficit-to-GDP ratio raises the 10-year bond rate expected to prevail five years into the future by 20 to 40 basis points. Similarly, a percentage point increase in the projected debt-to-GDP ratio raises future interest rates by about 4 to 5 basis points."

In other words, the effect of inflation in the form of higher interest costs.

Inflation induced by heavy deficits does not arise rapidly during a recession, but it jump-starts once recovery gets going. Then it quickly gets out of hand.

Remember: All the theory economists use as remedies get stymied by politicians who know the medicine will cause economic belt-tightening. Those remedies will be thus be over-ruled by political considerations.

The present Greek debacle is the perfect example of what happens when belt-tightening is avoided too long.